To provide a glimpse into the examination that is part of Six Park’s investment management review, we provide notes from our recent IAC meeting where Brian Watson AO, Lindsay Tanner and Paul Costello assessed current global conditions, an outlook for 2018 and the suitability of Six Park’s current asset allocations.

We also look back on our 2017 outlook from November 2016 to assess how our outlook at that time panned out.

Six Park’s financial outlook for 2018

KEY POINTS

Broad-based, global economic (GDP) growth has accelerated over the past year in virtually every major developed country, with unemployment and inflation generally remaining at historic low levels.

Global equity markets look fairly to generously valued, supported over the near term by encouraging corporate earnings growth; broadly speaking, we do not see markets as over-valued (e.g., not in “bubble” territory).

Broadly speaking, recent share market gains have resembled a “creep” versus “soar” in prices, supported by gradually expanding corporate profits and economic growth, as opposed to irrational or speculative drivers. This gives us hope that if and when markets move off recent record highs, the pullback will be more orderly versus a hard landing, barring any unexpected disruptions.

Strengthening non-mining business investment, ongoing skilled immigration and population growth and low interest rates should help support positive outlook for the Australian economy in the year ahead.

Despite this hopeful backdrop, uncertainty over political/international relations and the sustainability of equity valuations has increased anxiety among many investors and noise from those predicting a steep drop in share markets.

GLOBAL ECONOMIC AND SHARE MARKET OUTLOOK

Corporate earnings growth around developed and emerging markets has been strong (above 10%) and strengthening. The continuation of earnings growth would be sufficient to make the case that markets are not overvalued for the near-term, given the breadth of positive news and ongoing low inflation, particularly in the US.

The global economy is on course for its best year since 2010 as both the U.S. and the eurozone grow more rapidly than had been expected, the Organization for Economic Cooperation and Development recently announced, with acceleration likely in 2018.

Despite slowing growth in China, president Xi Jinping appears intent to do what it takes to keep the economy and banking sector stable, while in the European Union, French President Macron’s intention to implement structural reform and unite the region gives hope that the EU might navigate its way through the post-Brexit era without significant disruption.

Lost in much of the market commentary is the positive and transformative impact of renewable energy in creating jobs and lowering energy bills, and how advances in technology and automation will be drivers of economic growth.

There are no major political elections this coming year, which is in stark contrast to the numerous elections over the past year that brought an element of uncertainty and fear to global markets during 2017.

Capital is also flowing into emerging markets on the heels of improving global conditions and a belief that global interest rate rises will be gradual.

The neutralizing of the Islamic State provides some hope that there could be a phase of relative calm in the Middle East.

AUSTRALIAN OUTLOOK

Strong June quarter GDP growth suggests that third quarter (Jan – Mar 2017) weakness was temporary. Our economic outlook remains positive with growth in business investment in non-resource sectors and infrastructure spending. Job growth has been strong even if wage growth is modest, and interest rates are expected to remain flat or increase slightly over the next year.

Somewhat unheralded, immigration remains the oil that keeps Australia’s economic engine running. Population growth of 1.6% (in the 12 months to March 2017) is almost twice that of the US. Much of this growth (0.96%) came from net overseas migration, much of it skilled labour which helps drive consumer demand that underpins labour markets (source: Australian Bureau of Statistics).

The domestic property market will likely cool off to some extent, but is not an imminent valuation bubble about to burst.

Domestic political activities mimic the US to some extent: turbulence and possible changes, but nothing that is likely to seriously impact market or economic conditions.

Prospect of a market correction

Central banks either have started or have announced intentions to start raising interest rates. We expect the unwinding of fiscal stimulus to be gradual; markets seem to have priced the expected increase in rates into asset valuations.

With global share markets recently reaching record highs, doomsayers have been more boisterous with regard to an imminent share market crash. Markets will almost certainly move off recent highs, though the timing, catalyst and magnitude is unknown.

If a pullback occurs, then fear and emotions do come into play and a very important question arises for investors: Is a pullback a healthy correction or a more significant reversal of market trends into bear market territory? We will make that assessment at the time and review our investment strategy accordingly.

Key items on Six Park watch list

These are some of the key items that we will be monitoring on a regular basis:

DOMESTIC

The broad-based Australian property market appears well-priced, and there are pockets of worry in terms of valuations, so these will be monitored

GLOBAL

There is a risk that central banks raise rates too quickly, which could prematurely slow down global growth

President Trump and the US: Despite the potential passage of a tax reform bill (pro-business), the spectre of the Russian inquiry creates a measure of uncertainty for US political stability. Generally, markets do not like uncertainty, which can be a catalyst for sell-downs.

Review of Six Park asset allocation (November 2017)

The IAC recommended that Six Park leave its current asset allocations as they are, in part based on two changes made during the past 12 months in response to market conditions:

In December 2016, Six Park added global infrastructure to our portfolios, and swapped domestic property out, to be replaced with international property (REITs). Click here to read more about why we made this change and what it meant six months later.

In June 2017, Six Park reduced exposure to fixed income/bonds across all our portfolios with the view that we were entering a period of rising interest rates.

November 2016 outlook for 2017 – How did we do?

In November last year, Six Park’s Investment Advisory Committee outlined several anticipated themes for 2017 as well as Watch List items to keep an eye on during 2017. So how did we do? Pretty well, actually, as the analysis below shows.

OUTLOOK FOR 2017

WHAT ACTUALLY HAPPENED

Lower volatility, with a positive outlook for local and global markets. For the two largest single economies, recent US data had been strong, and China did not seem headed for a hard economic landing.

Volatility certainly moderated during 2017 and global economic growth has picked up momentum.

Domestic property market should soldier on with pockets of concern, but we did not see this sector as a bubble about to burst.

As we suggested, the property market moderated somewhat in 2017, but did not “burst” as some had predicted.

Compulsory super, high immigration rates and a positive outlook for the US stock market would help push the Australian economy and share market higher. Negative GDP data in 2016 was an expected one-off and did not suggest that an Australian recession was likely given the positives underlying the local economy.

Australian GDP has been solid thus far in 2017, with increasing business confidence, non-mining business investment and rising commodity prices offsetting a slowing housing market.

WATCH LIST ITEMS FROM NOVEMBER 2016

WATCH LIST ITEMS DURING 2017

“Armageddon” scenario of a Trump election had not materialised in the immediate aftermath of his election. He initially moderated his rhetoric, proposed several key posts to diversify his cabinet and appeared headed towards pursuing the more pro-business aspects of his policy agenda.